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Watsco Stays Hot Despite the Summer's Cool Weather

The distributor of residential heating and cooling solutions overcame some resistance from Mother Nature this quarter.

As the winter months approach, homeowners across the country are looking at the prospects of high heating costs once again, and many are looking at possible ways to cut their utility bills. Those are exactly the drivers of demand that Watsco (NYSE:WSO) is looking for, as it takes responsibility for getting systems from suppliers like United Technologies' Carrier division and the local repair and installation companies that put in and maintain HVAC systems in homes across the country. As trends like the move from heating oil to natural gas in many areas of the country have taken hold, Watsco has been able to capitalize on increased demand for more efficient heating and cooling systems. Yet some investors were nervous about Watsco's prospects for its third-quarter results, given a relatively cool summer season. Let's take a closer look at how Watsco did last quarter.

Racking up records at WatscoWatsco touted a number of record results for its third quarter, as the company enjoyed solid gains in its most important metrics. Revenue climbed by 5% to a record $1.135 billion, helping to drive earnings per share up 18% to $1.56, also a record. The most important driver of those positive results was margin expansion and cost containment, as Watsco saw gross profit margins rise by three-tenths of a percentage point and operating margins climb by half a percentage point. Overhead costs fell to record low levels, and operating profits jumped 10% to record levels of $105 million.

Source: Watsco.

Looking at Watsco's various business units, the company produced solid growth in most of its key segments. Revenue from HVAC equipment, which makes up about two-thirds of overall sales, climbed 7%, with residential equipment in particular seeing 8% growth as Watsco captured a greater portion of the overall market. In particular, Watsco saw continued efforts from homeowners seeking to take advantage of incentives for high-efficiency residential heating and cooling systems, as the company reported double-digit percentage growth in the high-efficiency area. Commercial refrigeration sales gained 14%, leading the company's segments. Only the Other HVAC Products category reported flat results compared to last year's levels.

Also helping to drive Watsco's results higher was its increased ownership interest in its joint venture with Carrier. With the company having partnered up with the United Technologies division in 2009, Watsco has generated considerable success from the venture, and Watsco decided to spend $88 million to raise its stake in the venture from 70% to 80%.

What's coming next for Watsco?In light of its success, Watsco said that it expects to see earnings per share for the full 2014 year come in between $4.20 and $4.40. That would represent growth of between 14% and 20%, and it's consistent with the $4.26 per share consensus among investors.

Source: Watsco.

To help foster that growth, Watsco has already taken big strides in improving its operations. Watsco has put in additional locations to be more convenient for its contractor customers, and it has brought in more than 200 new employees so far in 2014 in order to gain the expertise and experience necessary to improve sales of its products. Moreover, with extensive capital spending on technology, Watsco is helping its workers be more efficient and is improving customer service. Taken together, Watsco's efforts have helped put the company in a better position to understand the nature of its business, and given the extensive transformation that has resulted from the energy boom in the U.S., Watsco finds itself in a strong position to respond favorably to shifts in what customers want from their heating and cooling systems.

Watsco has done a good job of generating loyalty to the professional contractors that homeowners rely on to install furnaces, air conditioners, and other systems. By taking advantage of the well-known Carrier brand, Watsco has made a bigger impression in the HVAC industry, and with the U.S. economy continuing to gain momentum, investors can expect further growth from Watsco in the future.

Author

Dan Caplinger has been a contract writer for the Motley Fool since 2006. As the Fool's Director of Investment Planning, Dan oversees much of the personal-finance and investment-planning content published daily on Fool.com. With a background as an estate-planning attorney and independent financial consultant, Dan's articles are based on more than 20 years of experience from all angles of the financial world.
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